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The Supreme Court unanimously upheld the insider trading conviction of a Chicago man who had traded based on inside tips from relatives. The man, Bassam Salman, argued that those who tipped him off to insider information must have gained some pecuniary benefit from the tip in order for him to be convicted of securities fraud, echoing a position recently adopted by the Second Circuit.
But the Supreme Court easily rejected that logic, reaffirming the inference of a benefit whenever insider information is given to friends and family -- settling a circuit split and potentially clearing the way for increased insider-trading prosecutions.
Tippers, Tippees, and Securities Fraud
The Securities Exchange Act of 1934 and SEC rules prohibit undisclosed trading based on insider information, where the trader is bound by a duty of trust not to use such insider information for personal gain. Those banned from insider trading are also forbidden from tipping off others. And those who are tipped-off, so-called tippees, can also be liable for insider trading if they know that the tipper breached their duty, if the tip was given for personal benefit. Under the Supreme Court's 1983 decision in Dirks v. SEC, personal benefit is inferred so long as the tipper gets "something of value" in return or "makes a gift of confidential information to a trading relative or friend."
Here, Salman was convicted for securities fraud after trading on information given to him by his friend and brother-in-law, who had gained that information from his brother, an investment banker at Citigroup.
While Salman was appealing his conviction, a bit of a circuit split developed. The Second Circuit ruled that the courts could only infer a personal benefit when a tip was made to a friend or relative when there is "proof of a meaningfully close personal relationship" between tipper and tippee and that the exchange "represents at least a potential gain of a pecuniary or similarly valuable nature." The Ninth Circuit, hearing Salman's appeal, didn't follow the Second's lead, allowing the inference of a benefit simply when confidential information is given "to a trading relative."
Supreme Court Settles the Split
The Ninth, the Court ruled today, got it right. In a unanimous opinion penned by Justice Alito, the Court rejected Salman's claims that tipping insider information to a relative or friend, alone, did not qualify as securities fraud.
Salman argued that a tipper must get some "tangible monetary profit." To find securities fraud whenever any personal benefit was conferred, Salman asserted, would make the offense indeterminate and overbroad.
The government, on the other hand, took the opposite extreme. Trading confidential information to anyone, not just relatives and friends, is enough to constitute securities fraud, the United States argued -- it doesn't matter if the tippee is your wife, college roommate, or the checkout girl at the grocery story. Any tip of insider information allows an inference that the tip was for personal benefit. Of course, both the government and Salman relied on Dirks and its progeny to make their case.
Staying in the Heartland
Facing too distinctly opposed interpretations of the law, the Supreme Court rested comfortably on precedent, what Justice Alito called "the heartland of Dirk's rule concerning gifts."
"We adhere to Dirks," the Court wrote, "which easily resolves the narrow issue presented here." That formula is relatively simple. Tippees can be liable when they participate in a breach of the tipper's fiduciary duty. That breach requires some benefit, "directly or indirectly, from the disclosure." When the tippee is a friend or relative, the situation is treated as "trading by the insider followed by a gift of the profits to the recipient."
Salman's case fits directly into this formula, the Court said. "Making a gift of inside information to a relative like Michael [Salman's brother-in-law] is little different from trading on the information, obtaining the profits, and doling them out to the trading relative."
The Court was not simply "splitting the baby," either, finding the unsatisfactory middle ground between Salman and the government's interpretations.
To the extent that the Second Circuit required anything more than a gift of insider information to friends or family, the Court explained, "we agree with the Ninth Circuit that this requirement is inconsistent with Dirks" -- a clear rejection of the Second's "pecuniary gains" requirement.
The Court largely avoided addressing the government's argument that any tippee could be liable for securities fraud, however, leaving those issues for another day.
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